Last reviewed February 7, 2012

Summary: A variety of liability coverage forms tailored to those who administer pension and welfare funds, profit-sharing, and other employee benefit programs have been available for a number of years. The demand for them was relatively insignificant until the enactment of the Employee Retirement Income Security Act of 1974 (ERISA), the official name for the Pension Reform Act, which went into effect on January 1, 1975. The Act, which has been amended several times since its enactment, provided a stimulus for a growing demand by fiduciaries—administrators, executors, and trustees of employee benefit plans—for various forms of insurance protection. Important amendments to ERISA include the Consolidated Omnibus Budget Reconciliation Act (COBRA) which allows workers to continue their health insurance for a period of time after leaving an employer, and the Health Insurance Portability and Accountability Act (HIPPA) which provides new protections for those with preexisting medical conditions or those who might otherwise suffer discrimination based on factors related to their health.
This article offers an introductory review of fiduciary errors and omissions liability exposures based on the provisions of ERISA. For more information on fiduciary liability, see Fiduciary Liability—Estates and Trusts.

Topics covered:
Introduction
Definitions
Fiduciary responsibility
Prohibited transactions—exemptions
Fiduciary civil liability and penalties
Policy overview

Introduction

ERISA superseded all state statutes and regulations that dealt with the conduct of fiduciaries and imposed instead an all-encompassing and uniform standard of federal control upon them; the Act, moreover, devoted an entire section to the responsibilities of fiduciaries and to civil liabilities in the event the requirements of the Act are breached. Therefore, fiduciaries, like other professionals, can not only find themselves subject to a claim of malpractice or negligence, or even incompetence, but also find themselves facing set standard legal guidelines instead of a hodge-podge of rules and regulations that confuse everyone. Anyone in the pension and employment benefit program field needs to be well-trained, experienced, and currently informed.

Of course, everyone makes mistakes. And, it is impossible to please every client every time. To counteract such things and to protect himself from a liability claim, a fiduciary should have liability insurance coverage, coverage that takes into account the guidelines and provisions of ERISA..

Definitions

ERISA contains measures designed to reduce the potential for abuse of employee pension funds by establishing fiduciary standards for trustees and others involved in plan management, as well as for other individuals or entities designated as “parties-in-interest.” For a better understanding of fiduciary responsibilities and insurance needs, the definitions of “fiduciary” and “party-in-interest” are important.

Generally, a person is a “fiduciary” with respect to a pension plan to the extent (i) “he exercises any discretionary authority or discretionary control respecting management of such plan or exercises any authority or control respecting management or disposition of its assets, (ii) he renders investment advice for a fee or other compensation, direct or indirect, with respect to any moneys or other property of such plan, or has any authority or responsibility to do so, or (iii) he has any discretionary authority or discretionary responsibility in the administration of such plan.” Fiduciaries also include any person designated by named fiduciaries to carry out fiduciary responsibilities under the plan.

A “party-in-interest” is defined as including the following general categories:

1.   Any fiduciary, counsel, or employee of the plan.

2.   A person providing services to the plan.

3.   An employer whose employees are covered by the plan.

4.   An employee organization any of whose members are covered by the plan.

5.   Certain relatives of other parties-in-interest.

6.  An employee, officer, or director (or an individual having similar powers or responsibilities) of certain parties-in-interest.

7.  Other individuals or entities with substantial financial interests in, or which are substantially controlled by, certain parties-in-interest.

Fiduciary Responsibility

ERISA states that a fiduciary must discharge the duties with the care, skill, prudence, and diligence under the circumstances then prevailing that a prudent person acting in a like capacity and familiar with such matters would use in conducting a similar enterprise. The duties must be discharged solely in the interest of the participants and beneficiaries and for the purpose of providing benefits and paying plan expenses.

Among other duties, the fiduciary is required to diversify plan assets to minimize the risk of large losses (unless under the circumstances it is clearly prudent not to do so), and to discharge duties in accordance with the documents governing the plan, so long as the documents are consistent with ERISA provisions. Conflicts of interest, such as engaging in transactions on behalf of the plan that would also benefit parties related to the plan such as other fiduciaries, services providers, or the plan sponsor, must be avoided.

Generally, all employee benefit plans in or affecting interstate commerce are subject to the fiduciary responsibility rules. Fully exempted from such rules are governmental plans; church plans (unless electing coverage under the tax provisions of ERISA); plans maintained solely for the purpose of complying with applicable workers compensation laws, unemployment compensation, or disability insurance laws; nonresident alien plans; and unfunded excess benefit plans. A mutual fund is not considered a fiduciary or party-in-interest merely because the plan invests in its shares. An insurance company is a fiduciary if it holds plan funds in a separate account.

Prohibited Transactions—Exemptions

ERISA specifically prohibits fiduciaries from entering the plan into a prohibited transaction with a party-in-interest. Prohibited transactions are: the direct or indirect sale, exchange or leasing of property; a loan or other extension of credit; furnishing of goods, services or facilities; a transfer of any plan income or assets to or for the benefit of a party-in-interest; or the use of a plan's income or assets by or for a party-in-interest.

Fiduciaries of plans also are prohibited from dealing with the income or assets of a plan for their own interest or for their own accounts; from receiving consideration for their own personal accounts from any party dealing with the plan in connection with the transaction involving the income or assets of the plan; and from acting in any transaction involving a plan on behalf of a party whose interests are adverse to the interests of the plan or of its participants or beneficiaries. The acquisition or holding of employer securities or employer real property is also a prohibited transaction, except for certain “qualifying” securities or real property that are subject to value limitations.

The Act provides a number of exemptions to the prohibited transactions for certain established practices that are regarded as being consistent with the efficient functioning of employee benefit plans. For example, a plan is not prohibited from purchasing life insurance, health insurance, or annuities from the employer that maintains such a plan, if that employer is an insurer that is qualified to do business in that state and if the plan pays no more than adequate consideration.

A plan or class of fiduciaries or transactions may also be granted a special conditional or unconditional exemption, other than those provided in the Act, if it can be shown that the exemption is administratively feasible, is in the interests of the plan, participants, and beneficiaries, and is protective of the rights of participants and beneficiaries of the plan.

Fiduciary Civil Liability and Penalties

A fiduciary who breaches ERISA's fiduciary requirements is personally liable for any losses to the plan resulting from that breach. A fiduciary, moreover, must also pay to the plan any profits made through the use of any plan asset.

Exculpatory provisions included in any plan relieving a fiduciary from liability are to be considered void and of no effect. A plan may purchase insurance for itself and for its fiduciaries to cover any liability or loss resulting from acts or omissions of the fiduciaries, provided that the insurance permits recourse by the insurer against the fiduciaries in case of breach of fiduciary responsibility. Fiduciaries may purchase (from their own account) insurance to cover their own liability. Employers and employee organizations may buy insurance to cover potential liability of one or more persons who serve as a fiduciary under a plan. The intent is to permit plans and fiduciaries or employers to insure against such losses but not to permit plan assets to be used to purchase protection for the fiduciary or employer.

Policy Overview

A number of policies are available for the protection of fiduciaries, as well as those who may be legally responsible for the acts of fiduciaries, but none of them are standard. The underwriting rules for these policies are largely a matter of judgment and company underwriting philosophy, and a rather comprehensive application is usually required of the fiduciary. Most of the policies provide coverage on a “claims made” basis and all of them carry a mandatory deductible, although some variation is found in the amount of and method of applying the deductible.